Commentary

This is no emerging market crisis

Commentary: It’s natural for currencies to weaken and rebalance

By

MichaelCasey

Columnist

NEW YORK (MarketWatch) — Don’t confuse the recent rout in developing countries’ currencies with an “emerging market crisis.”

In a period of slowing global growth in which the Federal Reserve is seen reining in its monetary stimulus, most developing world governments are more than happy to see their currencies weaken. In fact, it’s part of a natural and necessary rebalancing in the world. Read Market Snapshot.

As U.S. bond yields rise and as American growth prospects appear to outshine those of other places, money is being reallocated back to dollar assets. Meanwhile, with the Japanese yen still down 20% from its lows of September emerging market producers are worried about lost competitiveness for their exporters. It’s why many central banks are holding off on intervention and letting their currencies fall. Softer exchange rates are just what the doctor ordered.

That is, unless you belong to a group I’ll call the TIBS.

With apologies to Jim O’Neill of BRICS coinage fame and to whomever came up with that jarring PIGS acronym, TIBS stands for Turkey, India, Brazil and South Africa. These countries’ currencies have borne the brunt of the emerging market selloff this month. And that’s because domestic political and economic problems make them more vulnerable to outflows of money, to the point that in their cases the currency sell-off risks igniting national crises. The TIBS are the exceptions that prove the rule.

Turkey, India and Brazil have all aggressively intervened in foreign exchange markets to bolster their flagging currencies. They simply can’t afford to take the sanguine view of depreciation that, say, Chile or Malaysia are taking.

In Brazil’s case it’s an inflation problem. Brazil’s failure to tackle rigidities in its labor market has left its inflation rate at the very top of its central bank’s acceptable range, which is why it hiked rates by an unexpectedly large half-percentage point two weeks ago even as economic growth was showing signs of grinding to a halt. The last thing the central bank needs is a plunging Brazilian real, which would generate inflation via higher import prices.

Turkey and India, the other prominent interveners, have successfully beaten back the inflation bogey that nagged them two years ago, but the legacy of that fight and the nagging problem of large current account deficits mean investors continue to fear a loss of market confidence in the Indian rupee or Turkish lira. (Complicating matters for Turkey is the political uncertainty sown by the violent protests against Prime Minister Recept Tayyip Erdogan.)

The TIBS member that’s really in trouble, however, is South Africa. As with Brazil, South African inflation is stubbornly high – just a hair below 6%, the top of the central bank’s target range. But unlike the other three countries, it doesn’t have a deep pool of dollars with which to prop up the South African rand. Following a 4.3% plunge last month, the country’s foreign exchange reserves stood at a modest $48 billion at the end of May. It means that South Africa’s authorities can only pray that the rout in the rand doesn’t go so far as to fuel imported inflation. That would simply add to the country’s long list of problems, which include industrial strife in its all-important mining sector and international declines in prices of the minerals its sells.

Yet one of the principal causes of South Africa’s pain — a slowdown in China — provides a kind of mixed blessing to other emerging markets. Few are happy about weaker Chinese demand, of course, but at least it means they don’t have to worry about inflation. Over the weekend, China reported that producer prices were down 2.9% on the year. For a country that manufactures so much of what we all buy, that’s a powerful disinflationary force to unleash on the world. It means that for almost all countries outside the TIBS group, emerging market currencies will be free to keep falling if they have to.

Intraday Data provided by SIX Financial Information and subject to terms of use. Historical and current end-of-day data provided by SIX Financial Information. All quotes are in local exchange time. Real-time last sale data for U.S. stock quotes reflect trades reported through Nasdaq only. Intraday data delayed at least 15 minutes or per exchange requirements.